Page |1        International Association of Risk and Compliance                      Professionals (IARCP)      1200 G Str...
Page |22. Insurance and reinsurance undertakings shall notify the supervisoryauthority of any changes to the identity of t...
Page |3insurers) are also affected. Solvency ii includes specific rules for branchesof direct insurers headquartered outsi...
Page |4The fit and proper requirements…Tribunal upholds FSA decision to ban and fine former UBSadvisers £1.3m for not bein...
Page |5Speech by Andrea Enria, Chairperson of theEuropean Banking AuthorityFinancial integration and stability in Europe:t...
Page |6Risk Management opportunities in thepublic sectorInformation implicit rather thanexplicitly expressedCan automated ...
Page |7The fit and proper requirements…Tribunal upholds FSA decision to ban and fine former UBSadvisers £1.3m for not bein...
Page |8He also made unauthorised transfers and loans between client accountsin order to conceal losses arising from the un...
Page |9KaranKaran did not instigate the unauthorised trading; however, she was awarethat unauthorised activity was occurri...
P a g e | 10We welcome the Tribunal’s confirmation that as well as banning Karpe, asignificant financial penalty should al...
P a g e | 11Remarks by Thomas J. Curry Comptroller of the CurrencyBefore the Exchequer ClubThank you for inviting me back ...
P a g e | 12Better asset quality has enabled banks and thrifts to trim new provisionsfor loan-losses, increasing the resou...
P a g e | 13The risk of operational failure is embedded in every activity and productof an institution – from its processi...
P a g e | 14Those banks did a poor job supervising both their own internal processesand the providers to which they outsou...
P a g e | 15alternative approaches, and should supplement model results with otherinformation and analysis.This helps avoi...
P a g e | 16The result has been regulatory penalties and reputational damage.Let me say that the OCC is very supportive of...
P a g e | 17BSA/AML compliance is inherently difficult.It combines the challenges of sifting through large volumes oftrans...
P a g e | 18No issues loom larger today than operational risk in all its dimensions,the manner in which all risks interact...
P a g e | 19We welcome the Private Company Council (PCC)Financial Accounting Foundation Establishes New Council toImprove ...
P a g e | 20The PCC also will serve as the primary advisory body to the FASB on theappropriate treatment for private compa...
P a g e | 21“The establishment of the PCC will help the FASB improve upon theefforts already under way to better serve the...
P a g e | 22The PCC will comprise 9 to 12 members, including a Chair, all of whomwill be selected and appointed by the FAF...
P a g e | 23All FASB members will be expected to attend and participate indeliberative meetings of the PCC, but closed edu...
P a g e | 24About the Financial Accounting FoundationThe FAF is responsible for the oversight, administration, and finance...
P a g e | 25Speech by Andrea Enria, Chairperson of the European Banking AuthorityFinancial integration and stability in Eu...
P a g e | 26The extent of the problems which have beset the global financial systemover the last five years are unpreceden...
P a g e | 27The EBA also fosters cooperation between home and host authorities andactively participates in and oversees th...
P a g e | 28In many respects, I believe the exercise was successful: in order toachieve the tougher capital threshold, ant...
P a g e | 29To this end, the EBA’s Board of Supervisors, comprising the heads of all27 national supervisory authorities, d...
P a g e | 30In addition, three banks identified as having weaknesses havesubsequently undergone restructuring processes an...
P a g e | 31In the years preceding the crisis and in an effort to improve supervision,colleges of supervisors were establi...
P a g e | 32I am glad to say that in many of these meetings for banking groups whichhave operations outside the European U...
P a g e | 33Part of this process will involve the development of effective Recovery andResolution Plans (RRPs) and the ide...
P a g e | 34European Commission’s work on new legislation for bank recovery andresolution, due out soon.The legal underpin...
P a g e | 35proposals for around 100 Technical Standards such as on the definition ofcapital, capital buffers, liquidity, ...
P a g e | 36In the coming months we have to complete the preparation for theimplementation of the reforms agreed by the G2...
P a g e | 37Rasheed Mohammed Al Maraj: Corporate governance andShari’a compliance in BahrainWelcome speech by His Excellen...
P a g e | 38The first of these standards concerns the Audit & GovernanceCommittee.In practice, this standard requires the ...
P a g e | 39The review of the CBB corporate governance requirements has alreadyfinished its first stage of internal review...
P a g e | 40presented now by AAOIFI in its efforts to enhance the industry’s humanresources base and governance structures...
P a g e | 41A route for EuropeAddress by Mario Draghi, President of theECB, at the day in memory of Federico Caffèorganise...
P a g e | 42In other words, the benefits of full employment are considered as well,and above all, in terms of human dignit...
P a g e | 43slowing down the assimilation of new technology and acting as a brakeon efficient production processes. In add...
P a g e | 44households, particularly those at risk of falling into poverty, is at a levelless than half that of elsewhere ...
P a g e | 45The sovereign debt crisis has exposed serious weaknesses in theinstitutional framework; in this context, the d...
P a g e | 46Without fairness, the economy breaks up into multiple interest groups, nocommon good emerges as a result of so...
P a g e | 47For Caffè, one of the first scholars of Frisch and Tinbergen, the optimalallocation of tools and objectives oc...
P a g e | 48about the government’s ability to refinance the debt from which thatpolicy originates.These fears may lead to ...
P a g e | 49But such policies impose high costs in terms of job losses, which have tobe included in the dynamic calculatio...
P a g e | 50The sine qua non for this is to build monetary policy decisions into asystematic and predictable strategy, bas...
P a g e | 51This has to do with the fragility of the theoretical foundations thatformalise the links between the real econ...
P a g e | 52The monetary analysis gave important warning signals in the yearspreceding the crisis regarding the existence ...
P a g e | 53At the end of February, or when the second three-year operation wascompleted, the net increase in loans grante...
P a g e | 54   1. The growth in liquidity following the two operations will ultimately      lead to inflation;   2. The Eu...
P a g e | 55These doubts are founded on an incorrect understanding of theguarantees that are requested by the national cen...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for w...
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Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for worse) shaped the week's agenda, and what is next

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Top 10 risk and compliance management related news stories and world events that (for better or for worse) shaped the week's agenda, and what is next

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Monday May 28 2012 - Top 10 risk and compliance management related news stories and world events that (for better or for worse) shaped the week's agenda, and what is next

  1. 1. Page |1 International Association of Risk and Compliance Professionals (IARCP) 1200 G Street NW Suite 800 Washington, DC 20005-6705 USA Tel: 202-449-9750 www.risk-compliance-association.com Top 10 risk and compliance management related news storiesand world events that (for better or for worse) shaped the weeks agenda, and what is next George Lekatis President of the IARCPDear Member,Are you fit and proper?Yes, risk and compliance management professionals, auditors, seniormanagers and board members must be fit and proper, and the definitionis becoming more interesting.For example, in Article 42 of the Solvency II Directive of the EU, we read:Article 42Fit and proper requirements for persons who effectively run theundertaking or have other key functions1. Insurance and reinsurance undertakings shall ensure that all personswho effectively run the undertaking or have other key functions meet atall times the following requirements:(a) Their professional qualifications, knowledge and experience areadequate to enable sound and prudent management (fit);(b) They are of good repute and integrity (proper)._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  2. 2. Page |22. Insurance and reinsurance undertakings shall notify the supervisoryauthority of any changes to the identity of the persons who effectively runthe undertaking or are responsible for other key functions, along with allinformation needed to assess whether any new persons appointed tomanage the undertaking are fit and proper.3. Insurance and reinsurance undertakings shall notify their supervisoryauthority if any of the persons mentioned in paragraphs 1 and 2 have beenreplaced because they no longer fulfil the requirements referred to inparagraph 1.Later, we had some interesting technical measures where we can learnmore:Persons who effectively run the undertaking or have other key functionsare not limited to the members of the administrative, management orsupervisory body, but could include other persons such as seniormanagers.The other “key functions” are those considered critical or important inthe system of governance and include at least the risk management, thecompliance, the internal audit and the actuarial functions.Other functions may be considered key functions according to the nature,scale and complexity of an undertaking’s business or the way it isorganised.Minimum standards are therefore set concerning the fitness and proprietyof corporate officers who occupy key management positions.Insurers need to demonstrate that these persons are adequately qualifiedand proper to do their jobs.This is the reason insurers and reinsurers compete to hire qualifiedprofessionals, and Solvency ii is often called "The Risk and ComplianceManagers Full Employment Act"Insurers and reinsurers headquartered outside the EU (third-country_____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  3. 3. Page |3insurers) are also affected. Solvency ii includes specific rules for branchesof direct insurers headquartered outside the EU which are similar to thoseapplied to branches of insurers headquartered within the EU.Many non-EU countries try hard to become Solvency ii Equivalent.Equivalence assessments aim to ensure that the third country regulatoryand supervisory regimes provide a similar level of policyholder /beneficiary protection as the one provided under the Solvency IIDirective.In case of a positive equivalence determination Member States arerequired to treat reinsurance contracts concluded with undertakingshaving their head office in the third country whose regime has beendeemed equivalent, in the same manner as reinsurance contractsconcluded with an undertaking which is authorised under the Solvency IIDirective.In case of a positive equivalence determination Member States shall notrequire the localisation within the Community of assets held to cover thetechnical provisions covering risks situated in the Community, nor assetsrepresenting reinsurance recoverables.***Welcome to the Top 10 list._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  4. 4. Page |4The fit and proper requirements…Tribunal upholds FSA decision to ban and fine former UBSadvisers £1.3m for not being fit and proper in relation to anunauthorised trading scheme21 May 2012Remarks by Thomas J. CurryComptroller of the CurrencyBefore the Exchequer ClubWe welcome the Private Company Council (PCC)The Financial Accounting Foundation(FAF) Board of Trustees established anew body to improve the process ofsetting accounting standards forprivate companies_____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  5. 5. Page |5Speech by Andrea Enria, Chairperson of theEuropean Banking AuthorityFinancial integration and stability in Europe:the role of the European Banking Authority23 May 2012, at the 15th China Beijing International High Tech ExpoChina Financial Summit 2012Rasheed Mohammed Al Maraj:Corporate governance and Shari’acompliance in BahrainWelcome speech by His Excellency Rasheed Mohammed Al Maraj,Governor of the Central Bank of Bahrain, at the AAOIFI (Accounting andAuditing Organisation for Islamic Financial Institutions) Annual Shari’aConference, Manama, May 2012.A route for EuropeAddress by Mario Draghi, President of the ECB, atthe day in memory of Federico Caffèorganised by the Faculty of Economics and theDepartment of Economics and Law at the SapienzaUniversity, Rome, 24 May 2012Gabriel Bernardino, Chairman of EIOPAEIOPA, Solvency II and the Loss AdjustingProfessionGeneral Assembly of the European Federation ofLoss Adjusting Experts_____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  6. 6. Page |6Risk Management opportunities in thepublic sectorInformation implicit rather thanexplicitly expressedCan automated deep natural-languageanalysis unlock the power of inference?Testimony Before the US Senate Committee on Banking,Housing and Urban Affairs, Washington, DCCFTC Chairman Gary GenslerMay 22, 2012Challenges facing the SwissNational BankSpeech by Mr ThomasJordan, Chairman of the Governing Board of the Swiss National Bank, tothe General Meeting of Shareholders of the Swiss National Bank, 27 April2012._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  7. 7. Page |7The fit and proper requirements…Tribunal upholds FSA decision to ban and fine former UBSadvisers £1.3m for not being fit and proper in relation to anunauthorised trading scheme21 May 2012The Upper Tribunal (Tax and Chancery Chamber) has directed theFinancial Services Authority (FSA) to fine Sachin Karpe £1.25 million andLaila Karan £75,000 and ban them both from performing any role inregulated financial services for failing to act with integrity, in breach ofPrinciple 1 of the FSA’s Statements of Principles and Code of Conduct forApproved Persons (“APER”) and for not being fit and proper persons.Between January 2006 to January 2008, Karpe was Desk Head of the AsiaII Desk at UBS AG (UBS) international wealth management business inLondon.Between February 2007 and January 2008, Karan worked as a ClientAdvisor on the Asia II Desk, reporting directly to Karpe.The Asia II Desk provided services to customers resident in India, or ofIndian origin.KarpeDuring the relevant period Karpe carried out substantial unauthorisedtrading, predominantly in FX instruments, with a gross value of billions ofpounds across 39 customer accounts._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  8. 8. Page |8He also made unauthorised transfers and loans between client accountsin order to conceal losses arising from the unauthorised trading.He directed others (including Karan) to assist him in arranging thetransfers and loans, and creating false documentation for theunauthorised trading.His scheme resulted in substantial losses for 21 customers.UBS has since paid compensation to the affected customers in excess ofUS$42 million.Karpe also established an investment structure to enable a major (Indianresident) customer (via an investment fund incorporated in Mauritius) tobreach Indian law in clear contravention of UBS guidelines.Ultimately, the customer invested over US$250 million in the fund.Karpe deliberately and repeatedly misled compliance in order toaccommodate his customer.Karpe also misled UBS and senior management about payingcompensation to a customer using monies from another customeraccount.The Tribunal found that:“Mr Karpe induced others serving on his desk to participate in what wasan obviously dishonest course of conduct...we infer that the wholemotivation was to benefit him indirectly and in the long term by obtainingnew clients through his apparent prestige, increasing funds undermanagement and thereby advancing his career and increasing hisbonuses.”The Tribunal accepted that the compliance failings at UBS might havecreated an environment within which staff could “get away with”misconduct – however, this was no excuse for Karpe’s sustaineddishonesty._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  9. 9. Page |9KaranKaran did not instigate the unauthorised trading; however, she was awarethat unauthorised activity was occurring on some customer accounts forwhich she was responsible.Between February 2007 and January 2008, rather than escalating thisknowledge, Karan assisted Karpe in concealing the unauthorised activity.In particular, Karan prepared false, handwritten telephone attendancenotes purporting to record customer instructions she had received whenshe had taken no such instructions; routed transactions through asuspense account in order to conceal their origin and destination; signeda number of UBS documents recording the approval of transactions onthe accounts without having received instructions or authorisation fromthe customers; and failed to escalate her knowledge of unauthorised loansbetween customers.Ms Karan also failed to escalate her knowledge that Mr Karpe had misledUBS and senior management about paying compensation to a customerusing monies from another customer account.The Tribunal noted that:“We recognise that Ms Karan had been placed in an extremely awkwardsituation through the manipulation of Mr Karpe.The fact, however, is that over and over again she chose to go along withand, on occasions, to facilitate Mr Karpe’s wrongdoing.”Tracey McDermott, acting director of enforcement and financial crime,said:“Karpe exploited and abused his position of trust, and persuaded morejunior employees to engage in misconduct to assist him.Such behaviour is in breach of his obligations to his employer, his clientsand his colleagues as well as to the regulator.It has no place in the financial services industry._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  10. 10. P a g e | 10We welcome the Tribunal’s confirmation that as well as banning Karpe, asignificant financial penalty should also be imposed.This sends a clear message of the consequences of such behaviour.“Karan sought to categorise herself as a victim in this matter. TheTribunal (as had the FSA) recognised that she did not initiate themisconduct, and was placed in a difficult position by Karpe.However, the findings and the resulting sanctions send a clear messagethat an approved person must take responsibility for their own actions.Where an approved person is aware that colleagues are engaging inmisconduct, we expect them to blow the whistle, not to become involvedthemselves.“Those who take on the responsibility of being an approved personshould be in no doubt about our commitment to take the strongest actionto tackle behaviour which falls below the high standards we expect.”In November 2009 the FSA fined UBS £8million for systems and controlsfailures in relation to the unauthorised activity which occurred on the AsiaII Desk.In December 2011 Jaspreet Singh Ahuja and in November 2009 AndrewCumming, both former Asia II Desk client advisers, were banned andfined £150,000 and £35,000 respectively._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  11. 11. P a g e | 11Remarks by Thomas J. Curry Comptroller of the CurrencyBefore the Exchequer ClubThank you for inviting me back to thepodium of the Exchequer Club, which ishome to so many good friends andcolleagues.It is a great honor to come before you asComptroller of the Currency. Twenty-ninedistinguished Americans have held theoffice since the OCC was founded nearly 150years ago, and I’m proud to be the bearer oftheir legacy.After all that has happened over the pasthalf-decade, I feel fortunate indeed toassume the responsibilities of the office at atime when the system of national banks and federal thrifts is on the mendand returning to a satisfactory condition.On average, balance sheets are stronger, earnings are improving, and thenumber of problem institutions and institutional failures, while still toohigh, is declining.Asset quality has been improving over the past several years.Among our largest banks, charge-off rates have fallen across all productlines, with reductions of 50 percent or more from 2009 levels in creditcards, commercial and industrial lending, and commercial real estate._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  12. 12. P a g e | 12Better asset quality has enabled banks and thrifts to trim new provisionsfor loan-losses, increasing the resources available for their own and theircustomers’ use.Some asset concentrations remain embedded in institutions’ portfolios,particularly in residential real estate, but they are mitigating the riskssuch concentrations entail.Capital now stands at its highest level in a decade, system-wide – theresult of increased earnings, low dividend payouts, new capital issuances,and reductions in risk-weighted assets.And with a strong base of deposits, banks and thrifts have the liquiditythey need to handle any reasonable contingency.These improving measures of financial health do not mean that theinstitutions we supervise are out of the woods.Loan demand remains sluggish, as the economy continues tounder-perform.Non-interest income is down, and the yield curve continues to beunfavorable.These factors all bear watching, keeping in mind that failures in thefundamentals of sound credit underwriting and balanced growth drovethe decline from which we’re still recovering.Our economic prospects – local, regional, national and international –depend on a banking system that is both safe and sound.But as the industry continues to heal from the credit and capital marketchallenges of the financial crisis, it is evident that another type of risk isgaining increasing prominence.That is operational risk—generally defined as the risk of loss due tofailures of people, processes, systems, and external events._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  13. 13. P a g e | 13The risk of operational failure is embedded in every activity and productof an institution – from its processing, accounting, and informationsystems to the implementation of its credit risk management procedures.Managing operational risk requires banks and thrifts to control thestraightforward things – like ensuring that legal documents are properlysigned and contain accurate information – as well as the moremultifaceted ones, like validating the inputs, assumptions, andalgorithms in their risk models.Operational risk is heightened when these systems and procedures aremost complex.Given the complexity of today’s banking markets and the sophisticationof technology that underpins it, it is no surprise that the OCC deemsoperational risk to be high and increasing.Indeed, it is currently at the top of the list of safety and soundness issuesfor the institutions we supervise.This is an extraordinary thing.Some of our most seasoned supervisors, people with 30 or more years ofexperience in some cases, tell me that this is the first time they have seenoperational risk eclipse credit risk as a safety and soundness challenge.Rising operational risk concerns them, it concerns me, and it shouldconcern you.We all know about the damage operational deficiencies can cause.Inadequate systems and controls were a primary reason for the recentproblems in mortgage servicing and foreclosure documentationpractices—problems that have had a big impact on the reputation andfinancial condition of the large banks that were implicated in thosepractices, on the timely clearing of non-performing loans, and on thegeneral housing market._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  14. 14. P a g e | 14Those banks did a poor job supervising both their own internal processesand the providers to which they outsourced some of these functions, andthey are paying the price for their mistakes.Operational risk for institutions of all sizes can arise also from flawed riskassessment and risk management systems within the institution.For community institutions with credit concentrations, a flawedassessment of risk can lead to inadequate controls and insufficient riskmanagement systems.For the largest institutions, the challenges here can be exceedinglycomplex.One example takes the form of faulty risk assessment and riskmanagement of the inter-relationship of risks in different markets on thevalue of the institution’s assets.Too often, we have seen conspicuous and expensive examples of the tollthat one form of operational risk—flawed risk models—can take.This so-called "model risk" is a species of operational risk, and is animportant supervisory issue.Together with the Federal Reserve, we issued supervisory guidance onmodel risk management about a year ago.This replaced previous OCC guidance on model validation andemphasized the importance of approaching model risk as an importantfocus of risk management for institutions that make material use ofmodels.The guidance stresses the need for ongoing monitoring and analysis toensure that models are likely to continue to perform as expected.In line with that guidance, and in view of the complexity of some models,institutions should be comparing their model results to the results of_____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  15. 15. P a g e | 15alternative approaches, and should supplement model results with otherinformation and analysis.This helps avoid narrow reliance on single approaches, which canincrease the risk of model failures and the related operational losses.The OCC has directed the institutions we supervise to comply with thisguidance, and we actively apply it through our ongoing supervisoryprocesses.Yet, as banks and thrifts face greater resource constraints and highercompliance costs, they may feel greater pressure to economize onsystems and processes in order to enhance their income and operatingeconomies—and therefore may be at greater danger of those systems andprocesses breaking down.All institutions, regardless of size, must resist the temptation tounder-invest in the systems and controls they need to prevent greater riskand larger losses in the future.They should take their cues from the cases in which such breakdownshave occurred. Many examples exist in addition to those I’ve justdescribed.For example, where financial institutions have been less than vigilantabout the IT security of processors with whom they contract to providemerchant processing services, breaches have occurred, and millions ofcredit and debit account holders were impacted.Banks and thrifts lacking adequate controls over their third-partymarketing relationships have unwittingly given their blessing toconsumer financial products with unfair and deceptive characteristics,exposing the institution to sanctions by the OCC for unfair and deceptivepractices.And we’ve seen institutions outsourcing such functions as debt collectionbut not taking adequate care to ensure that the third-party contracted toperform those functions follows the laws and regulations governing them._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  16. 16. P a g e | 16The result has been regulatory penalties and reputational damage.Let me say that the OCC is very supportive of efforts by the banks andthrifts it supervises to operate efficiently and to offer a wide range ofproducts and services that provide value to the consumer.That’s what a safe and sound banking system must do, and sometimesthose goals are best advanced through partnerships with third-parties.But when a bank or thrift enters into a third-party relationship, it mustunderstand that it does not wipe its hand of responsibility for the qualityand characteristics of the products that are offered to its customersthrough this channel—even if those products are not marketed with theinstitution’s brand.Due diligence in identifying, measuring, and monitoring the risk fromthird-party relationships, and establishing mechanisms for controllingand continuously monitoring those risks, is thus an essential part ofmanaging operational risk, which in turn affects its safety and soundness.An area where the intersection of operational and other risks is veryevident today concerns Bank Secrecy Act and anti-money launderingcompliance.When things go wrong in those areas, not only is the integrity of theinstitution’s operations compromised, but national security and drugtrafficking interdiction goals can be undermined, as well.This, too, affects institutions of all sizes, even though it’s large banks thatare most likely to make the headlines when they are found to haveBSA/AML deficiencies.But the OCC also is finding a rising number of BSA/AML problems in,and taking appropriate supervisory and enforcement actions against,midsize and community institutions, for problems that include ineffectiveaccount monitoring, inadequate tracking of high-risk customers and bulkcash transactions, and lapses in monitoring suspicious activity._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  17. 17. P a g e | 17BSA/AML compliance is inherently difficult.It combines the challenges of sifting through large volumes oftransactions to identify features that are suspicious, with the presence ofcriminal and possibly terrorist elements dedicated to and expert inconcealing the nature of the transactions they undertake.Rendering BSA/AML compliance more challenging is the fact thatBSA/AML risks are constantly mutating, as criminal and terroristelements alter their tactics to avoid detection and penetrate our defenses.They move quickly from one base of operations to another, findingsanctuary in places where law enforcement, or sympathy for U.S. policyobjectives are weakest.Thus, success is often transient where BSA/AML is involved, and effortsmust be constantly re-energized.Controls that may be entirely adequate today may prove inadequate fortomorrow’s risks and threats.However, it is critical that banks and thrifts instill strong cultures andoversight processes.Management needs to focus on key controls and maintain knowledgeableand sufficient staff.We can never underestimate the determination and ingenuity of ouradversaries—and we must be equal to that risk as it evolves.This, I recognize, is a major challenge.If we are to defend the security of our financial system and our nation—aswe must—industry and government cooperation is crucial.As regulators, one of our most important jobs is to identify risk trends andbring them to the industry’s attention in a timely way._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  18. 18. P a g e | 18No issues loom larger today than operational risk in all its dimensions,the manner in which all risks interact, and the importance of managingthose risks in an integrated fashion across the entire enterprise.These themes are a supervisory priority for us at the OCC today and theyshould similarly command the attention of the industry.Thank you.Note:Thomas J. Curry was sworn in as the 30th Comptroller of the Currency onApril 9, 2012.The Comptroller of the Currency is the administrator of national banksand chief officer of the Office of the Comptroller of the Currency (OCC).The OCC supervises more than 2,000 national banks and federal savingsassociations and about 50 federal branches and agencies of foreign banksin the United States.These institutions comprise nearly two-thirds of the assets of thecommercial banking system._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  19. 19. P a g e | 19We welcome the Private Company Council (PCC)Financial Accounting Foundation Establishes New Council toImprove Standard Setting for Private CompaniesWashington DC, May 23, 2012—After seeking and considering extensivepublic comment, the Financial Accounting Foundation (FAF) Board ofTrustees today established a new body to improve the process of settingaccounting standards for private companies.The new group, the Private Company Council (PCC), will have twoprincipal responsibilities.Based on criteria mutually developed and agreed to with the FinancialAccounting Standards Board (FASB), the PCC will determine whetherexceptions or modifications to existing nongovernmental U.S. GenerallyAccepted Accounting Principles (U.S. GAAP) are necessary to addressthe needs of users of private company financial statements.The PCC will identify, deliberate, and vote on any proposed changes,which will be subject to endorsement by the FASB and submitted forpublic comment before being incorporated into GAAP._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  20. 20. P a g e | 20The PCC also will serve as the primary advisory body to the FASB on theappropriate treatment for private companies for items under activeconsideration on the FASB’s technical agenda. “The Trustees believe that the plan approved today will improve thestandard-setting process and give private company stakeholdersadditional assurance that their concerns will be thoroughly consideredand addressed,” said FAF Board of Trustees Chairman John J. Brennanfollowing a meeting of the Trustees in Washington DC.“This structure represents a significant improvement over our originalproposal because of the very valuable suggestions we received from abroad cross section of concerned and interested constituents.” FAF President and CEO Teresa S. Polley said: “The plan approved bythe Trustees strikes an important balance.On one hand, the plan recognizes that the needs of public and privatecompany financial statement users, preparers, and auditors are not alwaysaligned.But at the same time, the plan ensures comparability of financialreporting among disparate companies by putting in place a system forrecognizing differences that will avoid creation of a ‘two-GAAP’ system.” The private company plan approved today generally follows the outlineof the initial Trustee proposal announced last October, but includesseveral significant changes and improvements.In response to stakeholder concerns, the Trustees changed the processthrough which FASB considers Council recommendations for privatecompany exceptions or modifications to GAAP from one of ratification toone of endorsement.The final plan stipulates that the Council Chair will not be a FASBmember; that the Council will hold meetings more frequently thanoriginally proposed; and that its size will be smaller than initiallysuggested._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  21. 21. P a g e | 21“The establishment of the PCC will help the FASB improve upon theefforts already under way to better serve the needs of private companyfinancial statement users, preparers, and practitioners,” said FASBChairman Leslie F. Seidman.Key elements of the Private Company Council responsibilities andoperating procedures include:Agenda SettingWorking jointly, the PCC and the FASB will mutually agree on criteria fordetermining whether and when exceptions or modifications to GAAP arewarranted for private companies.Using the criteria, the PCC will determine which elements of existingGAAP to consider for possible exceptions or modifications by a vote oftwo-thirds of all sitting members, in consultation with the FASB and withinput from stakeholders.FASB Endorsement ProcessIf endorsed by a simple majority of FASB members, the proposedexceptions or modifications to GAAP will be exposed for publiccomment.At the conclusion of the comment process, the PCC will redeliberate theproposed exceptions or modifications and forward them to the FASB,who will make a final decision on endorsement, generally within 60 days.If the FASB endorses the proposals, they will be incorporated into GAAP.If the FASB does not endorse, the FASB Chairman will provide the PCCChair with a written explanation, including possible changes for the PCCto consider that could result in FASB endorsement.Membership and Terms_____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  22. 22. P a g e | 22The PCC will comprise 9 to 12 members, including a Chair, all of whomwill be selected and appointed by the FAF Board of Trustees.The PCC Chair will not be a FASB member.Membership of the PCC will include a variety of users, preparers, andpractitioners with substantial experience working with privatecompanies.Members will be appointed for a three-year term and may be reappointedfor an additional term of two years.Membership tenure may be staggered to establish an orderly rotation.The PCC Chair and members will serve without remuneration but will bereimbursed for expenses.FASB Liaison and Staff SupportA FASB member will be assigned as a liaison to the PCC. FASB technicaland administrative staff will be assigned to support and work closely withthe PCC.Dedicated full-time employees will be supplemented with FASB staffwith specific expertise, depending on the issues under consideration.MeetingsDuring its first three years of operation, the PCC will hold at least fivemeetings each year, with additional meetings if determined necessary bythe PCC Chair.Deliberative meetings of the PCC will be open to the public, although theCouncil may hold closed educational and administrative sessions.Most of the meetings will be held at the FAF’s offices in Norwalk,Connecticut, but up to two meetings each year may be held elsewhere._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  23. 23. P a g e | 23All FASB members will be expected to attend and participate indeliberative meetings of the PCC, but closed educational andadministrative meetings may be held with or without the FASB.OversightThe FAF Board of Trustees will create a special-purpose committee ofTrustees, the Private Company Review Committee (Review Committee),which will have primary oversight responsibilities for the PCC.The Review Committee will hold both the PCC and the FASBaccountable for achieving the objective of ensuring adequateconsideration of private company issues in the standard-setting process.The Review Committee will be chaired by a Trustee with substantialexperience in private company accounting issues.Oversight activities will be ongoing, and will include monitoring of PCCmeetings, among other activities.FAF Trustees’ Three-Year AssessmentThe PCC will provide quarterly written reports to the FAF Board ofTrustees.The FAF Trustees will conduct an overall assessment of the PCCfollowing its first three years of operation to determine whether itsmission is being met and whether further changes to the standard-settingprocess for private companies are warranted. The complete report establishing the PCC, including backgroundmaterials, key discussion issues considered by the Trustees, and PCCresponsibilities and operating procedures, will be available on the FAFwebsite next week.The FAF Board of Trustees will issue a call for nominations for membersof the PCC via the FAF website in the next few weeks._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  24. 24. P a g e | 24About the Financial Accounting FoundationThe FAF is responsible for the oversight, administration, and finances ofboth the Financial Accounting Standards Board (FASB) and itscounterpart for state and local government, the GovernmentalAccounting Standards Board (GASB).The Foundation is also responsible for selecting the members of bothBoards and their respective Advisory Councils.About the Financial Accounting Standards Board Since 1973, the Financial Accounting Standards Board has been thedesignated organization in the private sector for establishing standards offinancial accounting and reporting.Those standards govern the preparation of financial reports and areofficially recognized as authoritative by the Securities and ExchangeCommission and the American Institute of Certified Public Accountants.Such standards are essential to the efficient functioning of the economybecause investors, creditors, auditors, and others rely on credible,transparent, and comparable financial information.For more information about the FASB, visit our website at www.fasb.org._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  25. 25. P a g e | 25Speech by Andrea Enria, Chairperson of the European Banking AuthorityFinancial integration and stability in Europe: the role of theEuropean Banking Authority23 May 2012, at the 15th China Beijing International High Tech ExpoChina Financial Summit 2012Dear CHITEC host, Ladies and Gentlemen,It is a pleasure to have been invited to address youthis morning at the China Financial Summit 2012.Given the very difficult environment we are facingin the financial markets, and especially in theEuropean banking sector, this conferenceprovides an excellent opportunity to give thisinternational gathering some insight into the recently establishedEuropean Banking Authority, the EBA, including the role it plays intackling the crisis, and in strengthening the regulatory framework forEuropean banks.While the immediate challenges are dominating our thoughts at present,it is also important that we continue to develop the structural changesnecessary to deliver a more secure and stable banking environment forthe long term._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  26. 26. P a g e | 26The extent of the problems which have beset the global financial systemover the last five years are unprecedented in modern times and haveexposed serious weaknesses in financial regulation and supervision.In his February 2009 report, Jacques de Larosière pointed to the beliefthat in the run up to the commencement of the crisis in 2007, financialregulation and supervision had been too weak and provided the wrongincentives.Lack of adequate macro-prudential supervision, ineffective early warningmechanisms, lack of frankness and cooperation between supervisors andlack of common decision making process were among the key lessonslearned from the crisis.We had a Single Market, closely integrated especially after theintroduction of the euro, but the regulatory and supervisory environmenthas remained very diverse, notwithstanding the efforts for harmonisation.A key component of the European response to addressing thesedeficiencies was the establishment of the European System of FinancialSupervision on 1 January 2011.This includes the European Systemic Risk Board (ESRB), in charge ofmacroprudential supervision, and the three European supervisoryauthorities, the EBA for banking, ESMA for securities and markets andEIOPA for insurance and occupational pensions.The EBA has been given a wide-ranging mandate. In the field ofsupervision, while the day-to-day oversight of banks’ safety andsoundness remains a responsibility of national authorities, the EBA hasbeen entrusted with key responsibilities.These include the regular conduct of risk assessments, which should alsolead to the establishment of a risk dashboard, and of area-wide stresstests, aimed at ensuring the resilience of European banks in front ofadverse shocks._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  27. 27. P a g e | 27The EBA also fosters cooperation between home and host authorities andactively participates in and oversees the work of supervisory colleges forcross-border groups.Additional tasks are envisaged in the area of crisis management where theEBA is in charge of coordinating recovery and resolution plans for themajor European banking groups.In the area of rule making, the EBA plays a major role in theestablishment of the so-called Single Rulebook – i.e. technical rules trulyuniform throughout the European Union, adopted through legalinstruments that are directly binding in all the 27 Member States of theUnion.Last but not least, we have been entrusted with the responsibility formonitoring and tackling consumer issues.Let me first give you an overview of the EBA’s role and activities inrelation to micro prudential supervision, and namely to the Authority’sefforts in tackling the financial crisis.The EBA’s efforts in tackling the crisisThe EBA’s initial priorities were centered on the challenges raised by thedeterioration of the financial market environment.In the first part of 2011, we conducted a stress test exercise, aimed atassessing the capital adequacy of the largest European banks in front ofadverse macroeconomic developments.The exercise focused on credit and market risks and also, in recognitionof the risks that subsequently crystallised, incorporated sensitivity tomovements in funding costs.Banks were required also to assess the credit risk in their sovereignportfolios._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  28. 28. P a g e | 28In many respects, I believe the exercise was successful: in order toachieve the tougher capital threshold, anticipating many aspects of thenew Basel standards, banks raised €50bn in fresh capital in the first fourmonths of the year; we set up a comprehensive peer review exercise,which ensured consistency of the results across the European SingleMarket, notwithstanding the many differences in national regulatoryframeworks; the exercise included an unprecedented disclosure of data(more than 3200 data points for each bank), including, amongst otherthings, detailed information on sovereign holdings.However, the progress of the stress test was tracked by a significantfurther deterioration in the external environment.The main objective of restoring confidence in the European bankingsector was not achieved, as the sovereign debt crisis extended to morecountries, thus reinforcing the pernicious linkage between sovereigns andbanks.Soon after the completion of the stress test, most EU banks, especially incountries under stress, experienced significant funding challenges.In this context, the IMF and the European Systemic Risk Board (ESRB),called for coordinated supervisory actions to strengthen the EU banks’capital positions.The EBA assessment was that without policy responses, the freeze inbank funding would have led to an abrupt deleveraging process, whichwould have hurt growth prospects and fuelled further concerns on thefiscal position of some sovereigns, in a negative feedback loop.We then called for coordinated action on both the funding and thecapitalisation side.While advising the establishment of an EU-wide funding guaranteescheme, the EBA focused its own efforts on those areas where it hadcontrol, primarily bank capitalisation._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  29. 29. P a g e | 29To this end, the EBA’s Board of Supervisors, comprising the heads of all27 national supervisory authorities, discussed and agreed that a furtherrecapitalisation effort was required as part of a suite of coordinated EUpolicy measures.This resulted in the EBA issuing a Recommendation that identified atemporary buffer to address potential concerns over EU sovereign debtholdings and required banks to reach 9% Core Tier 1.The total shortfall identified was €115 bn.The measure, agreed in October 2011 and enacted in December 2011,seeks that Supervisory Authorities should require those banks covered byits Recommendation to strengthen their capital positions by end of June2012.The Recommendation was swiftly followed by the ECB’s long termrefinancing operations (LTROs), arguably the key “game changer” inthis context.The LTROs allowed banks to satisfy their funding needs in front of asignificant amount of liabilities to roll over in 2012, thus preventing amassive credit crunch.The recapitalisation was a necessary complementary measure: whilebanks needed unlimited liquidity support, to keep supporting the realeconomy, they had to be asked to accelerate their action to repair balancesheets and strengthen capital positions.When the process is completed, European banks will be in a muchstronger position, also vis-à-vis their main peers at the global level.The EBA is, in general, satisfied with the progress made in the fulfilmentof this Recommendation and notes that the actions taken by the bulk ofbanks include capital strengthening and adequate recognition of losses._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  30. 30. P a g e | 30In addition, three banks identified as having weaknesses havesubsequently undergone restructuring processes and will no longer existin the same form as at the moment of the stress test.We have put a lot of efforts to avoid that banks reached the target ratio bycutting asset levels instead of raising capital, thus reducing creditavailability for corporates, especially small and medium enterprises andhouseholds.However, a deleveraging process is needed in the banking sector.It has already started, with a different pace in different areas of the globalfinancial system and needs to be accomplished in an ordered fashion.The first step has been the increase in capital levels, long overdue and oneof the cornerstones of the regulatory reforms endorsed by the G20Leaders.The second step requires a reduction in size of balance sheets, especiallyby addressing non-performing assets and de-risking in areas such ascapital market activities and real estate lending, which grew too much inthe run-up to the crisis.The third step entails a refocusing of business models, especially towardsmore stable funding structures and the gradual exit from theextraordinary support measures put in place by central banks.I am convinced that without an ordered deleveraging process, through asignificant strengthening of capital and a selective downsizing of assetlevels, we would fail addressing the fragilities that are preventing banksfrom performing their fundamental functions.Supervisory CollegesThe misalignment between the international nature of the major bankinggroups and a national system of supervision has been a contentioussubject for many years._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  31. 31. P a g e | 31In the years preceding the crisis and in an effort to improve supervision,colleges of supervisors were established, to varying extents, for majorbanking groups.However, as the financial stresses developed in 2008, these structures didnot work effectively in a large number of cases.The already difficult situation was compounded by the lack of dialogueand information exchange between supervisory authorities, as nationalpriorities took precedence in the decision making process.Given the problems which this lack of cooperation presented, there was aclear need to radically overhaul the voluntary structures which existed.This need has manifested itself in legislative changes to the CapitalRequirements Directive (CRD), the primary European legislation thatimplements the Basel accord for banking in the EU, and in specificprovisions incorporated into the mandate of the EBA.Supervisory colleges are now required for all cross border banking groupsoperating in the European Economic Area and the EBA has been grantedfull participation rights as a competent authority.The EBA staff are attending supervisory colleges of the majorsystemically important groups in Europe and go to these meetings with aclearly defined goal of promoting and monitoring the efficient, effectiveand consistent functioning of colleges as well as fostering the coherentapplication of the EU law by supervisors.Also, since 2011, European colleges are the forum in which theconsolidating supervisor and the competent authorities responsible forthe supervision of subsidiaries are required to reach a joint decision onthe capital of the group and the relevant subsidiaries.The formal system of joint risk assessments, which underpins thisprocess, and the drive to make the core supervisory decision on capital,represents a major step forward in the coordination of cross bordersupervisory processes._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  32. 32. P a g e | 32I am glad to say that in many of these meetings for banking groups whichhave operations outside the European Union, consolidating supervisorswill often invite supervisors from countries outside the EU so that theycan give a first hand account of the risks being run in the entities theyoversee.The EBA strongly believes the work to implement these arrangementshas to be strengthened in order to improve the effectiveness ofsupervision for cross-border groups.Good progress has been made in many quarters.For instance, national authorities are coming to their joint decisions onthe capital of a banking group using the common structures andtemplates set out in guidelines issued by the EBA.However, there is still a long way to go to enhance consistency insupervisory outcomes and to achieve adequate levels of informationexchange and cooperation.Crisis ManagementIt is at these times of intense challenge, that structures and relationshipsare most tested, and we actually see how well coordination of supervisionworks at an international level- and see most clearly where fault linescontinue to exist.Before I give you some views on what is happening within the EUregulatory community, I need to forcefully make the point that primaryresponsibility to enhance preparedness for a crisis situation lies with thebanks themselves.Banks must learn the lessons of the crisis and materially improve theirrisk management processes.They must embed into their processes the capacity to perform real stresstests and make sure they are well equipped to withstand severe adversemarket developments. _____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  33. 33. P a g e | 33Part of this process will involve the development of effective Recovery andResolution Plans (RRPs) and the identification of the steps to be takenwhen the viability of the firm is at risk.The guidance of the Financial Stability Board is a key benchmark in thisarea.For cross-border groups in the European Union, colleges of supervisorswill develop plans for the coordination of supervisory action in emergencysituations.Colleges are supplemented by the Cross-Border Stability Groups (or“crisis colleges”), which bring together fiscal authorities, central banksand supervisors.But the lesson of the crisis is that voluntary cooperation arrangements arenot enough.Stronger legal and institutional underpinnings are needed to enforceeffective crisis management and resolution tools in the European SingleMarket.An important step has already been taken to strengthen the Europeaninstitutional setting with the provisions set out in our foundingRegulation, which gives the EBA responsibilities in areas such as themonitoring of colleges, the development of Recovery and ResolutionPlans and the conduct of EU-wide stress tests.In addition, when an emergency situation is declared by the EuropeanCouncil, the EBA has been given the power to address specificrecommendations to national supervisory authorities with a view tocoordinating their actions and, if necessary, apply European decisionsdirectly to individual institutions in case of inaction by nationalauthorities.Nonetheless, the structures are not complete and a more formal role forthe EBA in crisis management will depend on the outcome of the_____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  34. 34. P a g e | 34European Commission’s work on new legislation for bank recovery andresolution, due out soon.The legal underpinning for crisis resolution needs to be fully harmonisedin order to allow for an integrated process, with close cooperationbetween the authorities involved.This should allow interconnecting national resolution procedures so as toensure an integrated approach for cross-border firms, ensuring anequitable treatment of creditors in all jurisdictions.At the same time, mechanisms should be in place to constrain the actionsof national authorities and drive towards coordinated, firm-widesolutions.Over time, the EBA’s role in this area is likely to grow substantially,including its role in mediating between conflicting interests of nationalauthorities as serious problems emerge.Rule Making and the Single RulebookAs proposed by de Larosière in his report, the EBA now has the capacityto draft directly applicable rules, by means of regulatory andimplementing standards that will then be adopted by the EuropeanCommission as EU Regulations and thereby become directly binding inthe whole EU, without the need for national implementation.This process will help eliminate many of the inconsistencies which havearisen from options, national discretions, and the different interpretationsadopted when previous rules were transposed into national legislation bythe 27 EU Member States.Materially reducing the fragmentation in the EU regulatory regime willprovide greater certainty to market participants and stronger foundationsfor convergence in supervisory practices.Based upon the current legislative proposals for the implementation ofBasel 3, about 200 deliverables will be expected from the EBA, including_____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  35. 35. P a g e | 35proposals for around 100 Technical Standards such as on the definition ofcapital, capital buffers, liquidity, remuneration, and the leverage ratio.This will be essential to ensure level playing field and avoid in the futurethat the regulatory lever is used to attract business in national marketplaces or to favour national champions, a process that has played a greatrole in the relaxation of regulatory standards in the run up to the crisis.The EBA can also issue Guidelines and Recommendations which are notlegally binding, albeit the EU national supervisory authorities need toindicate publicly whether they intend to comply, and if this is not the casethey will need to publicly explain the reasons.The EBA can also conduct peer reviews in order to make sure that thecommon standards and guidelines are effectively applied in a consistentand effective fashion.ConclusionsLadies and gentlemen,Today I tried to convey to you an overview on the difficult challenges theEBA is facing.In our first 16 months of activity, we have already done a huge effort tostrengthen the capital position of EU banks and to restore confidence intheir resilience.The work is not over in this area.The liquidity support provided by the ECB avoided an abruptdeleveraging process, but banks are still in the process of repairing anddownsizing their balance sheets and of refocusing their core business.We, as supervisors, need to accompany this process and do our utmost toensure that it occurs in an ordered fashion, without adverse consequenceson the financing of the real economy._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  36. 36. P a g e | 36In the coming months we have to complete the preparation for theimplementation of the reforms agreed by the G20 Leaders, in particularBasel 3.It is a major challenge for regulators across the world and the EBA isestablishing close contacts with fellow supervisors in other countries,including China, to ensure that there is always an open dialogue and acommon commitment to strengthening the safety and soundness ofbanks.In the EU, this challenge is compounded with our resolve to set up amuch more uniform regulatory setting for all the banks operating in theSingle Market, with the so called Single Rulebook.Strengthening regulation is not enough if it is not coupled with moreeffective supervision, especially for those large and complex groups thatare active on a cross-border basis and may generate systemic risks acrossjurisdictions.This requires identifying best supervisory practices and ensuringconvergence towards these benchmarks, as well as strengtheningcooperation within colleges of supervisors.This has surely a strong European dimension, due to the relevance ofcross-border business within the Single Market, but requires also closecooperation with supervisors in other regions.We are surely committed to bringing our contribution to the success ofthis endeavour._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  37. 37. P a g e | 37Rasheed Mohammed Al Maraj: Corporate governance andShari’a compliance in BahrainWelcome speech by His Excellency Rasheed Mohammed Al Maraj,Governor of the Central Bank of Bahrain, at the AAOIFI (Accounting andAuditing Organisation for Islamic Financial Institutions) Annual Shari’aConference, Manama, 7 May 2012.Excellencies, distinguished guests, ladies and gentlemen, this conferencecomes at an important time for the Islamic financial sector.This conference is focussing on six key areas that both the standardsetters and the financial sector must work together upon if Islamicfinance is to continue to grow and achieve its full potential.So I thought in this Welcome Address I would talk about one area wherethe Central Bank, as a regulator and as a member of AAOIFI has a specialinterest. And that subject is Governance.AAOIFI currently has issued seven standards relating to governance andtwo standards with respect to ethics.Deficiencies in Governance at financial institutions have been repeatedlyhighlighted in the past five years following the commencement of theGlobal Financial Crisis in 2007.Three of the standards issued by AAOIFI specifically refer to governance._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  38. 38. P a g e | 38The first of these standards concerns the Audit & GovernanceCommittee.In practice, this standard requires the Audit Committee to do rather morethan just to review a financial institution’s accounting practices and auditplan.It requires the Committee to review the use of Restricted InvestmentAccounts’ funds.It emphasises the need to ensure that funds are invested in accordancewith terms agreed with the customer.Too often over the past five years we have seen how the interests ofcustomers at both conventional and Islamic banks have been neglectedas bank management have focussed on bonuses and share price.If banks neglect customers’ interests, then they will lose those customers.This theme of looking after the interests of customers is carried on in theAAOIFI Governance Principles paper issued in 2005.In particular Principle 3 of this paper warns against inequitable treatmentof fund providers.The 2009 AAOIFI Corporate Social Responsibility paper also focuses ondealing responsibly with clients and “par excellence” customer service.If you couple the governance standards with the ethics paper foremployees of financial institutions, you find a formidable set ofrequirements, principles and standards relating to putting the interests ofcustomers first.So against this background of improving levels of disclosures, the CBBwill be making further efforts through its review of its corporategovernance and business conduct rules to raise the bar for corporategovernance._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  39. 39. P a g e | 39The review of the CBB corporate governance requirements has alreadyfinished its first stage of internal review.The next will be consultation with the financial sector.Coupled with governance is Shari’a. This is one of the themes of thisconference.From the perspective of the CBB as a regulator, we have noted that all toooften, the approach of banks, particularly conventional banks has been tostart with a conventional transaction or product and then try to give it afinishing coat of Shari’a compliant paint.Financial institutions must not regard Shari’a compliance as the finishingtouch to product development.Instead, product development needs to start from Shari’a principles: i.e.Islamic financial institutions must become Shari’a driven.And that is why this conference and the next set of consultations byAAOIFI are going to be so important.If financial institutions and standards setters can address the interest ofcustomers, governance and Shari’a compliance satisfactorily then we canlook forward to Islamic finance continuing its growth and reaching its fullpotential.NotesThe Accounting and Auditing Organization for Islamic FinancialInstitutions(AAOIFI) is an Islamic international autonomousnon-for-profit corporate body that prepares accounting, auditing,governance, ethics and Sharia standards for Islamic financial institutionsand the industry.Professional qualification programs (notably CIPA, the Shari’a Adviserand Auditor "CSAA", and the corporate compliance program) are_____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  40. 40. P a g e | 40presented now by AAOIFI in its efforts to enhance the industry’s humanresources base and governance structures.AAOIFI was established in accordance with the Agreement ofAssociation which was signed by Islamic financial institutions on 1 Safar,1410H corresponding to 26 February, 1990 in Algiers.Then, it was registered on 11 Ramadan 1411 corresponding to 27 March,1991 in the State of Bahrain.As an independent international organization, AAOIFI is supported byinstitutional members (200 members from 45 countries, so far) includingcentral banks, Islamic financial institutions, and other participants fromthe international Islamic banking and finance industry, worldwide.AAOIFI has gained assuring support for the implementation of itsstandards, which are now adopted in the Kingdom of Bahrain, DubaiInternational Financial Centre, Jordan, Lebanon, Qatar, Sudan and Syria.The relevant authorities in Australia, Indonesia, Malaysia, Pakistan,Kingdom of Saudi Arabia, and South Africa have issued guidelines thatare based on AAOIFI’s standards and pronouncements._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  41. 41. P a g e | 41A route for EuropeAddress by Mario Draghi, President of theECB, at the day in memory of Federico Caffèorganised by the Faculty of Economics and theDepartment of Economics and Law at theSapienza University, Rome, 24 May 2012A teacher, says Eco, “teaches that everyonemust become individual and different”.Professor Federico Caffè, albeit with a coherentvision and deeply held convictions, was a teacher.He taught his students to think for themselves and did not pass on abinding creed.He helped his students – economists, thinkers, servants of the state and ofthe institutions, alert citizens – to discover themselves.I’ll start with the subject which, without a doubt, was the most precious toCaffè, namely welfare.Probably nothing in his intellectual heritage is more topical than thispainful protest of his: one cannot, he would say, “ accept the idea that anentire generation of young people should consider themselves as havingbeing born at the wrong time and having to suffer job insecurity as aninevitable fact”.Work: a European matter“ Full employment is not only a means of increasing production..., it is anend in itself, since it leads to overcoming the servile attitude of those whofind it hard to obtain a job opportunity or live in constant fear of beingdeprived of one._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  42. 42. P a g e | 42In other words, the benefits of full employment are considered as well,and above all, in terms of human dignity.”These words of Caffè do not surprise those who knew him and those whohave read his works.They express the fundamental inspiration of his professional and publiclife: it is a duty of economic policy to act so that the economy can get asclose as possible to full employment.In 1975, he formulated it more precisely:“ The goal of dignified work for all, however, is not compatible either withsituations of privilege, which have now become destabilising, nor withexcessive labour and social security rights, which results in jobopportunities evaporating away” .The issue that Caffè raises here is one of fairness. We find it again today:the international crisis has affected everyone, and young peopleespecially.In the European Union, between 2007 and 2011 the unemployment raterose by 5.8 percentage points among the 15-24 year olds, by 3.5 pointsamong the 25-34 year olds and by 1.8 points in the 35-64 age range.Qualitatively, the profile is similar almost everywhere; the clear exceptionis Germany, where the unemployment rate among 15 to 24 year olds in thefirst quarter of 2012 was 8%; in Italy it was 34.2%, in Spain 50.7% and theeuro area average was 21.9%.These trends reflect a fundamental question: they confirm the particularvulnerability of this essential part of our workforce.The unequal sharing of the “cost of flexibility”, only affecting youngpeople, an eternal flexibility with no hope of stabilisation, leads amongother things to companies not investing in young people, whose skills andtalents often decline in jobs with low added value.The underuse of their resources reduces growth in various ways: it makesthe creation of start-ups less likely – and they are on average moreinnovative than others – it causes a decline in skills in the long run, _____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  43. 43. P a g e | 43slowing down the assimilation of new technology and acting as a brakeon efficient production processes. In addition to undermining society’ssense of fairness, it is a waste that we cannot afford.I think it’s essential to ask how economic policy conducted in variousMember States has done its duty in the way desired by Caffè.Social progress is one of the key objectives of the European integrationprocess:“The Union shall work for the sustainable development of Europe basedon balanced economic growth and price stability, a highly competitivesocial market economy, aiming at full employment and social progress …It shall combat social exclusion and discrimination, and shall promotesocial justice and protection, equality between women and men,solidarity between generations and protection of the rights of the child”.(Article I-3 of the draft European Constitution). Welfare is not only aremedy for the failure of insurance markets, but also a tool to promoteinclusion, solidarity and a sense of fairness.In the three post-war decades (the so-called “Golden Age”), whichespecially in Europe were marked by high growth rates, use of advancedtechnologies, high growth employment, stable lifetime employment,welfare started to emerge, at different times and on different scalesdepending on the country, as an integrated system that protects itscitizens from significant risks.The European model redistributes many more resources for socialpurposes than the US and Japanese systems: on the eve of the crisis, thetotal expenditure on pensions, unemployment benefit, for children andfamilies was, in relation to GDP, more than twice that of the US andJapan.This can take different forms as regards the composition of social policiesand the degree of labour protection.In Italy, with an overall welfare spending ratio of GDP in line with that ofthe rest of Europe, spending on support for the unemployed, for_____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  44. 44. P a g e | 44households, particularly those at risk of falling into poverty, is at a levelless than half that of elsewhere in Europe, while spending on pensions issignificantly higher.The weakness of the “social shock absorbers” is that relatively high jobprotection for those in employment is accompanied by weaker protectionfor those out of work, contrary to what happens in the Nordic models,where the so-called “flexisecurity” combines an extensive social safetynet with less job protection.In some countries, even if, 40 years on, the assumptions of that model arestill valid, reflections on it began some time ago.Structural factors have changed the context within which the Europeansocial model operates: the growing competition from emerging countries,the reorganisation of production processes on a global basis, the speed ofinnovation, the increasing fragmentation of career paths with ever looserties to a “permanent position”, the greater instability of families,declining fertility, the prospective decrease in the workforce, an ageingpopulation.The set of risks faced by individuals throughout their life has changedsignificantly.The social protection systems are therefore constantly evolving;substantial corrections have taken place in recent years in manycountries, including France, the United Kingdom and Germany, thecountry where the reform process began a decade ago.In Italy, the recent pension reform which approves the full transition to acontribution system completes the necessary correction of the pensionspending dynamics which was started years ago.As Germany shows very well, large and effective welfare systems can bemade more efficient without compromising social goals.We are living at a critical juncture in the history of the Union._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  45. 45. P a g e | 45The sovereign debt crisis has exposed serious weaknesses in theinstitutional framework; in this context, the difficulties in findingcommon solutions are having a negative impact on market valuations.The extraordinary measures taken by the ECB have gained us time; theyhave preserved the functioning of monetary policy.But we have now reached a point where European integration, in order tosurvive, needs a bold leap of political imagination.It is in this sense that I have referred to the need for a “growth compact”alongside the well-known “fiscal compact”.A growth compact rests on three pillars and the most important one, froma structural viewpoint, is political: the economic and financial crisis haschallenged the myopic belief that monetary union could remain just that,and not evolve into something closer, more binding, into an arrangementwhereby national sovereignty on economic policy is replaced by theCommunity ruling.If the governments of the Member States of the euro define jointly andirrevocably their vision of what the political and economic construct thatsupports the single currency will be and what the conditions to reach thatgoal together should be.This is the most effective answer to the question everyone is asking:“Where will the euro be in ten years’ time?”.The second pillar is that of structural reforms, especially, but not only, inthe product and labour markets.The completion of the single market and the strengthening ofcompetition are crucial for growth and employment. Labour marketreforms that combine flexibility and mobility with a sense of fairness andsocial inclusion are essential.Growth and fairness are closely connected: without growth, and theevents of recent months also reflect this, the temptation to “circle ourwagons” gains strength, and solidarity weakens._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  46. 46. P a g e | 46Without fairness, the economy breaks up into multiple interest groups, nocommon good emerges as a result of social and economic interaction,and there are negative effects on the capacity to grow.Recent Italian history has no shortage of examples.These reforms have long been indispensable in a global economy verydifferent to the one which witnessed the creation of the institutions stilloperating today.In the political structure that will emerge from the crisis it is likely anddesirable that for these reforms a system of European rules will beintroduced similar to that for the fiscal compact, a discipline leading overtime to the European harmonisation of objectives and tools.The third pillar is the revival of public investment: the use of publicresources to push forward investment in infrastructure and humancapital, research and innovation at national and European levels.(The proposed strengthening of the EIB and the reprogramming ofUnion structural funds in favour of less-developed areas go in thisdirection).Thus, a growth compact complements the fiscal compact, because therecan be no sustainable growth without orderly public finances.In this regard I have noted on other occasions the extraordinary progressmade by all governments of the euro area in terms of fiscal consolidation,but, once the emergency is overcome, they need to make improvementsby cutting current spending and taxation.Let me now consider some issues more directly related to the ECB’smonetary policy and action.Objectives and instrumentsThe first issue involves the relationship between objectives andinstruments of economic policy in a macroeconomic reference model thatchanges over time._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  47. 47. P a g e | 47For Caffè, one of the first scholars of Frisch and Tinbergen, the optimalallocation of tools and objectives occurred in the reference modelprevalent in the 1970s, in which the goal of economic policy was to makebest use of the available resources, in particular full employment.In pursuit of this goal, monetary policy was subordinated to fiscal policy,with an ancillary role for the central bank vis-à-vis the Treasury.The reference macro-model was based on a static mechanism ofelaborating expectations, which were formed by extrapolating from pastobservations to the future.This mechanism amplified the immediate effect of public spending onaggregate demand.Monetary policy – in charge of credit conditions – was entrusted with thetask of alleviating, through a careful policy of accommodation, the impactthat government borrowing would have exerted on the cost of privatedebt.The central bank was financing the Treasury by creating money.Under these conditions, an increase in public spending could “adddemand” – where this would be lacking for the goal of full employment –without taking away resources from other uses.Since then, the theory of economic policy has followed two paths thathave led it to invert the ranking of relative potential of tools and toenhance the definition and measurement of the objective.As for the instruments, a different theory of the formation of expectations– no longer extrapolative – has highlighted the strong impact of monetarypolicy and has weakened the expected effects of fiscal policy.In the models that we use today, agents, when formulating theirexpectations, are attentive to the sustainability conditions of the choicesin the long term.Economic policies deemed unsustainable in the long run are ineffective.For example, an active deficit-financed fiscal policy is limited by fears_____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  48. 48. P a g e | 48about the government’s ability to refinance the debt from which thatpolicy originates.These fears may lead to behaviours that weaken the private sector – or, atworst, completely neutralise – the impact of public spending as a meansof controlling demand.Monetary policy, by contrast, is strengthened by this.Acting through the expectations channel, it can have a lasting effect onthe expected flows of financial revenue.Affecting the real rate of intertemporal discount, it can deeply affectdecisions on savings and consumption.The definition of the objective is now wider.Price stability has become an essential parameter in defining andmeasuring prosperity.From taking a relaxed approach to inflation and considering it secondary,nowadays low and predictable inflation is a pre-eminent criterion ofeconomic performance.Why?High inflation hits savings – and therefore investment and futureconsumption – with a tax on real returns that rewards the risk of uncertaininflation.Low inflation, however, frees up resources that individual choices canallocate to increasing the fixed capital.A policy that neglects inflation gradually destabilises the economy.The costs of uncertainty about the value of the money, initiallyunimportant, then overlooked, subsequently become evident, and thenare judged intolerable.At that point, voters express a strong preference for policies that promiserapid disinflation._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  49. 49. P a g e | 49But such policies impose high costs in terms of job losses, which have tobe included in the dynamic calculation of the costs of inflation.Also, it should not be forgotten that inflation affects the poor more thanthe rich, and is therefore a tax on the weaker members of society.Under the influence of the neo-classical synthesis of Samuelson andSolow, the long-term correlation between inflation and growth wasperceived as positive in the early 1970s: a slight increase in inflation wouldhave led – within limits – to an increase in employment and growth.But by the end of that decade, studies by Bob Lucas and Tom Sargentwere to show that long-term inflation and growth are not correlated.Monetary policy, while very effective in the short term, only affectsinflation in the medium and long term. It is, in other words, neutral.Today, new models and advanced computational techniques allow us tosimulate the effects of inflation on incentives to save and to work, on theformation of physical capital, and therefore on the prospects for growth.The correlation has become negative: higher inflation reduces growthand employment.For example, vector autoregressive models with non-constant parametersallow the identification of a range of values that quantify the cost in termsof growth failure for every two percentage point increase in steady-stateinflation.This cost implies lower growth of between 3 and 5 percentage points overa period of ten years.Finally, monetary policy is a powerful tool.When used improperly, it may cause permanent damage.But it can become an effective, stabilising factor and contribute tocollective prosperity in an independent and active way._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  50. 50. P a g e | 50The sine qua non for this is to build monetary policy decisions into asystematic and predictable strategy, based on price stability, which drivesexpectations and guides the economy but doesn’t shock it.This is perhaps the most important practical difference to what wasstudied in the early 1970s.The ECB’s monetary policy strategyThe ECB’s monetary policy strategy is based on the new theory of theinstruments I have tried to outline, and takes into account the enrichmentof the theory of objectives, which emphasises the contributions of pricestability to the “general prosperity”.It also provides continuity for a monetary tradition in continental Europethat has ensured inflation-free growth for more than 60 years.The strategy is based on the objective of “maintaining price stability” thatthe Treaty has entrusted to the central bank and the quantitativedefinition that the Governing Council subsequently gave the objective.The studies I have mentioned helped to define a range within whichinflation is no longer a factor that distorts economic choices.The ECB pursues, as an objective of monetary stability in the mediumterm, an inflation rate below, but close to, 2%, which is the upper limit ofthis range.The macroeconomic model on which the ECB’s monetary policy strategyrests is imbued with contemporary macroeconomics, based on dynamicoptimisation and on the centrality of forward-looking expectations.At the same time, the model is broader and well structured and correctsthe simplifications of the pre-crisis neo-Keynesian paradigm with itsprescriptive approach to optimal monetary policy.The weakness of this paradigm was, and is, its inability to recognise theimportance of financial frictions and the role of credit and money._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  51. 51. P a g e | 51This has to do with the fragility of the theoretical foundations thatformalise the links between the real economy, financial imbalances andthe level of confidence.Ignoring money is tantamount to assuming an absence of risk anduncertainty.Without risk, Keynes would have said, there would be no money.The preference for liquidity is not justified in an economy withoutuncertainty.But the neo-Keynesian model excludes the possibility of default.In it, risks in the financial sector can be isolated and therefore have noeffect on the real economy.The financial crisis has clearly highlighted the weaknesses of this system.Macroeconomic theory has begun to reflect on the neo-Keynesian systemand these studies are now one of the liveliest areas of analysis.These studies – at least their early results – confirm the farsightedness ofsome of strategic choices of the ECB.Liquidity, money, credit have always been – since 1998, when the Bankreceived its mandate from the founders of the monetary union –qualifying variables of the ECB’s reference model and its strategy.The monetary analysis requires a constant monitoring of banks’ assetsand liabilities as sources of information on the assessment of risk in themarkets and the economy as a whole.This analysis commits the Governing Council to adjust the tenor ofmonetary policy to ensure the long-term growth of monetary aggregatesand credit consistent with the potential for economic expansion.In this sense, the monetary pillar of the strategy can be interpreted as astrategic reinforcement that helps to prepare correction mechanisms insituations where macroeconomic imbalances are having difficulty inmanifesting themselves in inflationary pressures._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  52. 52. P a g e | 52The monetary analysis gave important warning signals in the yearspreceding the crisis regarding the existence of deep macroeconomic andfinancial imbalances.In the autumn of 2005, in conditions of inflation observed and projectedto be “normal”, the ECB’s monetary analysis began to record a change inthe composition of M3 growth: from a model of growth explained bymoney demand factors – that we would define as irrelevant to theevolution of spending and prices – to a dynamic associated with increasedcredit creation – that is, to banks’ money supply factors.These changes were accepted as indications that the tenor of monetarypolicy, despite the moderation of inflationary pressures observed andprojected, had become too lax.A new cycle of monetary policy tightening was initiated in December ofthat year, based on considerations inspired by the monetary pillar, wheremonetary and financial stability is an intermediate objective for attaininga more balanced development of macroeconomic variables and henceprice stability over the long term.In a globalised world, the international financial crisis has not spared theeuro area. But today we know that preventive action by the ECB,implemented mainly by considering monetary indicators, has mitigatedthe impact on incomes and inflation.The two operations of three-year refinancing (LTROs)The monetary analysis has also been an essential strategic tool indiagnosing and managing the crisis.In this regard, the analysis that led to the more recent non-standardmonetary policy measures can illustrate how the systematic monitoring ofbanks’ liabilities – money in its broadest sense – can provide guidance onthe risks faced by the economy as a whole.Towards the end of 2011, with a decision unprecedented in the history ofthe euro, the ECB’s Governing Council decided to conduct two three-yearrefinancing operations._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  53. 53. P a g e | 53At the end of February, or when the second three-year operation wascompleted, the net increase in loans granted to counterparties was around€520 billion.The motivation for the two operations can be summarised by thefollowing strategic view.A central bank is mandated with the crucial task of ensuring the sufficientsupply of liquidity to sound bank counterparties in return for adequatecollateral.In normal times, “sufficient liquidity” means a volume of refinancing inline with the need for banks to meet the obligatory reserve requirementsand the financing of other independent factors which explain the growthover time in the demand for money.In times of increased financial instability, “sufficient liquidity” indicatesa volume of available central bank money which avoids the risk that –under such market conditions – the temporary inability of banks toprovide refinancing leads to insolvency and thus to a situation ofwidespread default.In neither of the two cases – normal times or crisis periods – can thecentral bank be considered responsible for the survival of bankcounterparties that are close to bankruptcy.The two long-term refinancing operations achieved the purpose for whichthey were intended.In an environment of a near-shutdown of private credit markets, bankswere not able to refinance their assets and were unable to maintain theirlevel of exposure to households and businesses.The extensive long-term refinancing allowed for the partial andtemporary substitution of private credit with central bank money and thusavoided a disorderly process of credit to the economy running dry.Nevertheless, these operations were not without their criticism. Thesecan be summarised in three points:_____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  54. 54. P a g e | 54 1. The growth in liquidity following the two operations will ultimately lead to inflation; 2. The Eurosystem’s balance sheet is exposed to unprecedented and uncontrollable risks; 3. Such operations have reinforced the perverse link between banks and sovereign debtors and may be considered a violation of the prohibition of financing public debt with central bank money, laid down in Article 123 of the Treaty. And, the opposite – but conceptually equivalent – criticism that these operations did not provide the economy with finance.As regards the first point, it is again pertinent to refer to strategy: in themedium to long term, the inflation dynamic reflects developments inbroader monetary aggregates.Conditions that encourage the creation of inflation or speculative bubblesare generated by strong and sustained growth in money and credit, notnecessarily as a result of an increase in liquidity granted by the centralbank to the banking sector.This liquidity constitutes a precautionary supply for sight liabilities thatthe banks have towards households, non-financial corporations and otherbanks.The sight liabilities, i.e. deposits, and not the supply of liquidity,demonstrate a high statistical correlation to the price dynamics of goodsand assets.Today, monetary developments do not allow for the identification of risksof inflation or pressure on asset prices in the medium term.As regards the second point, the main criticism related principally to theexpansion of collateral accepted by the national central banks of theEurosystem as a guarantee in return for liquidity extended to creditinstitutions.In particular, doubts were raised regarding credit claims that becameeligible with the decisions taken in December 2011._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com
  55. 55. P a g e | 55These doubts are founded on an incorrect understanding of theguarantees that are requested by the national central banks to protectagainst the risk that central bank liquidity is not repaid.In particular, the discount applied to the nominal value of credit claimsprovided as security in refinancing operations is very high.This means that, for credit claims deposited as collateral with a nominalvalue of €100, the national central banks accepting the new collateralprovide, on average, the equivalent of around €47 in liquidity.This discounting represents a powerful method for absorbing the creditrisk involved in such operations.It is also worth highlighting the fact that the main elements of risk controlcontinue to be shared by the Eurosystem: the criteria for acceptance andmeasures for controlling risk are approved by the Governing Council,which is also responsible for the continuous monitoring of theeffectiveness of all of the measures for mitigating risk.With regard to the third point, it is undeniable that, in some countries inparticular (especially Spain and Italy), banks used some of the liquidityacquired via the three-year long-term refinancing operations fortemporary investments in government bonds.Today, central banks do not have an instrument for the precise andtargeted allocation of credit to a sector or in favour of a specific financialuse.Those who accuse the ECB of an indirect violation of the prohibition onfinancing public debt with central bank money are making the sameconceptual mistake as those who accuse the ECB of not having forced thebanks to the use the funds acquired via the LTROs to supply credit to theprivate sector.In the first case, banks would have had to have been forced not topurchase government securities, and in the second case, to give credit tothe private sector._____________________________________________________________International Association of Risk and Compliance Professionals (IARCP) www.risk-compliance-association.com

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